What the T-Mobile and MetroPCS merger means for you

T-Mobile parent company Deutsche Telekom has announced that it’s struck a deal to merge with regional pre-paid mobile operator MetroPCS. For MetroPCS, the merger represents a tremendous growth opportunity: instead of being a regional operator limited to a few markets, its customers will get nationwide service. For T-Mobile, the merger significantly deepens the company’s spectrum holdings in key cities and regions, enabling it to make a serious play as a value-conscious LTE operator. And for Deutsche Telekom, the merger finally represents a way to one day get out of the business of being a U.S. mobile operator, following its failed effort to sell T-Mobile to AT&T last year.

But what does the merger mean for consumers and customers of both T-Mobile and MetroPCS? Can customers expect better service and wider LTE coverage? Or, like so many mergers, will the new company just be bigger and more expensive?

The merger’s basic idea

The T-Mobile and MetroPCS merger is designed to give number-four T-Mobile more scale and deeper spectrum holdings in several major metropolitan areas, meaning it will more wiggle room to offer 4G LTE services and compete aggressively against the likes of Sprint, AT&T, and Verizon. The combined company will still be the number-four U.S. mobile carrier (behind number three Sprint), but will bump up to about 42 million subscribers. Although MetroPCS uses CDMA phone technology and T-Mobile is based on GSM, MetroPCS is already in the process of phasing out CDMA, and its spectrum holdings are broadly complementary: both companies live and breathe in the 1,700 MHz and 1,900 MHz spectrum bands.

The combined company will do business under the T-Mobile name, although MetroPCS and T-Mobile will continue to operate as distinct customer units. Contract-based mobile service (along with services for businesses) will be under the T-Mobile name, and pre-paid and no-contract service will be available under both T-Mobile and MetroPCS brands.

The pre-paid market — or, as Deutsche Telekom likes to refer to it, “value-focused” market — is one area where the combined company gets interesting. MetroPCS is exclusively a no-contract and pre-paid provider — also one of T-Mobile’s strong points. According to T-Mobile, the two companies will have about 14.6 million no-contract subscribers (9.3 million from MetroPCS), putting it nearly neck-and-neck with Sprint’s no-contract operation, which currently has about 15.4 million customers. The combined T-Mobile/MetroPCS no-contract business looks poised to earn more money than Sprint’s: in the second quarter of 2012, Sprint pulled in $1.2 billion from no-contract subscribers, where the combined T-Mobile/MetroPCS pulled in $1.6 billion. Basically, the combined T-Mobile and MetroPCS will likely become the biggest no-contract mobile operator after AT&T and Verizon — we only say “likely” because those companies don’t break out revenue from their prepaid/no-contract businesses.

The terms of the merger are unusual: technically, MetroPCS is acquiring T-Mobile in a reverse acquisition. MetroPCS will declare a 2-for-1 reverse stock split, pay $1.5 billion to its existing shareholders (a bit over $4 per share), and then buy all of T-Mobile’s capital stock by giving Deutsche Telekom 74 percent of MetroPCS. In the end, Deutsche Telekom winds up the majority owner of MetroPCS, and the new company will have nearly $25 billion in revenue and about $2.1 billion in free cash flow for the year. T-Mobile’s current CEO, John Legere, will be the CEO of the new company; MetroPCS CFO J. Braxton Carter will be the new company’s CFO. MetroPCS’s CEO, Roger Linquist, will apparently retire — he is 74 years old. Regulators have to approve the deal, and that will take a while: the companies expect the deal to be formally closed by June 2013. The new company will operate out of T-Mobile’s Bellevue, Washington HQ, but will maintain a “significant presence” in the Dallas area.

One of the consequences of the reverse merger is that the new T-Mobile will be a public company: before, it was a private company owned by Deutsche Telekom. Although Deutsche Telekom has agreed to provide a $5.5 billion commitment to support some existing MetroPCS transactions, write down the value of some of its investment in T-mobile, and offer the new company a $500 million unsecured credit facility, setting up T-Mobile as a public company gives Deutsche Telekom something it’s always wanted: a way out of the slow-growing U.S. mobile market. That’s why it tried to sell T-Mobile lock, stock, and barrel to AT&T in one giant transaction. Taking T-Mobile public doesn’t give Deutsche Telekom a swift and sudden exit from the American market, but it does put the company in a position to sell off its shares of the new company in the future.

If you’re a T-Mobile customer…

In the short term, the merger probably won’t affect T-Mobile customers: the company is continuing its $4 billion built-out of LTE services using AWS (Advanced Wireless Services) spectrum on its network. However, looking ahead, the merger means T-Mobile’s LTE offerings should be much stronger in the areas where MetroPCS currently offers service. Assuming all of MetroPCS’s AWS spectrum gets converted over to LTE — which should happen over time — T-Mobile will have an average of 50 MHz of LTE bandwidth in major areas like New York, Los Angeles, Boston, San Francisco, Detroit, and Las Vegas — and 60 MHz in MetroPCS’s hometown of Dallas — and that includes a full 2×20 MHz in many areas, meaning T-Mobile’s LTE network should be able to keep up with competitors in terms of raw bandwidth. T-Mobile’s current GSM and HSPA+ handsets will continue working, too.

Going forward, T-Mobile’s move toward LTE also means T-Mobile customers can expect to have a greater selection of handsets. Instead of having to rely on phone makers to create special devices for T-Mobile’s own flavor of HSPA+ connectivity, T-Mobile should be able to offer customers mainstream LTE handsets. T-Mobile is hoping that, one day soon, that will include the iPhone, but the company will also be happy to offer customers the latest LTE devices running Android and Windows Phone, as well as accept iPhone migrants from other carriers.

MetroPCS has also been noted for its highly automated self-service capabilities, making it easier for customers to add minutes, pay bills, switch plans, and get a new phone without incurring a ton of customer support costs. On an investor call today about the merger, T-Mobile executives said they expect to be able to leverage that to improve its customer service levels — which would be welcome. T-Mobile’s customer service used to be lauded; recently J.D. Power and Associates has been rating it lowest in customer service among all carriers.

If you’re a MetroPCS customer…

If you’re a MetroPCS customer (and familiar with wireless technology), this merger is putting four letters in your mind: CDMA. MetroPCS’s voice network runs on CDMA, which is incompatible with T-Mobile’s GSM network. How can these incompatible technologies work together?

Short answer: they won’t. MetroPCS customers will be stuck on MetroPCS coverage and limitations until they migrate to new, future, handsets that will incorporate service for both networks. We also learned on the call today (and this long document) that the combined company anticipates keeping some of MetroPCS’s existing CDMA service operating through the first half of 2015, so customers have almost three years to transition to a new handset. MetroPCS’s all-contract business has an exceptionally high handset turnover: each year, between 60 and 65 percent of MetroPCS’s customers get new handsets, so transitioning away from CDMA in a span of nearly three years isn’t expected to be a major problem for most MetroPCS customers.

And MetroPCS customers should get some significant benefits from the deal once they transition, including substantially expanded mobile coverage, without being forced into roaming deals (including international roaming options). That expanded coverage area also makes it more likely MetroPCS customers can keep their service if they move to a more rural area. Although MetroPCS has already been rolling out LTE service, with T-Mobile it will have access to a much broader LTE network (once it’s built out), along with a wider choice of handsets — perhaps one day including the iPhone.

MetroPCS customers also get some stability: MetroPCS is the fifth largest mobile operator in the U.S., but it was still a regional provider going it along with limited growth opportunities. The combined company is larger, more stable, and backed by the considerable financial resources of Deutsche Telekom — which is still an investment-grade stock.

When life hands you lemons…

T-Mobile merging with MetroPCS is the latest move in the company’s gotta-stay-alive strategy in the wake of AT&T’s failed takeover attempt. When the AT&T merger failed, T-Mobile was left with comparatively few options, and none of them were great. The company has settled on a “challenger” strategy that isn’t aiming to unseat AT&T or Verizon, but instead to offer a fourth stable, national competitor in the U.S. market.

Since it became single again, T-Mobile has made four major moves to position itself as a viable alternative to AT&T and Verizon:

It picked up AWS spectrum holdings (as well as a roaming deal) from AT&T as part of its break-up fee when acquisition fell through

It announced a $4 billion upgrade plan to offer LTE services on its AWS network — that involves upgrading 37,000 sites over three years

It sold rights on 7,200 towers to Crown Castle for $2.4 billion in cash to fuel its LTE transition

For T-Mobile, merging with MetroPCS is about making the best play it can to build competitive 4G LTE services. The company has no spectrum holdings in the attractive 700 MHz bands recently vacated by broadcast television: those bands are particularly appealing for LTE and mobile services because they’re good at penetrating structures. With the MetroPCS merger, T-Mobile is still left out of 700 MHz LTE service, but it will be able to significantly increase the density of LTE services it can offer in higher-frequency AWS bands: they don’t penetrate buildings as well, but T-Mobile is hoping to make up some of the difference by widening the amount of spectrum it uses in many metropolitan areas, as well as by being particular about how it upgrades its towers — it’s been hoping to improve in-building coverage by about 20 percent just through its network modernization, which includes new antennas with integrated radios.

Those efforts probably won’t be enough to compete head to head with the likes of AT&T and Verizon Wireless, but T-Mobile and MetroPCS are a good fit in another way: no-contract customers. The U.S. mobile market is mostly saturated. Very few new mobile customers are being created: some estimates have the U.S. mobile market growing by about 3 to 5 percent a year through 2017. However, tough economic times and the high cost of smartphone voice and data plans means the no-contract and pre-paid segment of the U.S. mobile phone market could grow by 9 to 10 percent in that same period. The combined T-Mobile and MetroPCS should be a major player in that faster-growing market segment — particularly if the combined company can keep to its strategy of unlimited mobile data plans.

The next move is probably Sprint

What will be the next move in the mobile industry? Look to number-three Sprint. MetroPCS’s deal with Deutsche Telekom to merge with T-Mobile was actually MetroPCS’s second choice: earlier this year, MetroPCS nearly closed a deal to be acquired by Sprint. That deal was rejected by Sprint’s board, and MetroPCS had to go looking elsewhere for a buyer.

Sprint has indicated it intends to be a leader in consolidation in the mobile industry — and its most likely targets are LEAP Wireless or working out a deal with Dish Network. Dish, in particular, might be tempting: the satellite TV operator holds a number of licenses in the 2000 to 2200 MHz band that it intended to use to build out its own satellite-assisted LTE network. However, the FCC is on the verge of action that could make some of Dish’s licenses relatively useless to Dish…but useful as an add-on to Sprint’s built-out of LTE service in the 1900 MHz range. Sprint is already building out its LTE service, where Dish hasn’t really started.